Entering 2011 the foodservice industry seemed poised for a better operating environment than in recent years. Consumer confidence seemed to be slowly inching up and, generally speaking, the national employment situation was gradually improving. But instead of seeing a steady improvement in the business climate, things have been uneven, at best, throughout the foodservice industry.

"What goes on with employment growth is closely linked with restaurant industry sales growth," says Hudson Riehle, senior vice president of the National Restaurant Association's Research & Knowledge Group. "While national employment is up more than one million jobs, there are still seven million positions that need to be gained. So normalizing the employment situation is several years off. While it is not the best of situations, it is still better than it was just a few years ago."

Riehle points out that lowering unemployment is important to the long-term success of the industry for two fundamental reasons: it means greater household incomes and less time for consumers to cook. "There certainly is no rebound to prosperity with regard to the national employment outlook but the trend is definitely headed in the right direction," he adds.

The fact that the economy sucker punched the foodservice industry in the form of rising food costs and skyrocketing gas prices has not helped matters, either. "The gas situation, from a restaurant operator perspective, immediately correlates into consumers' cash on hand position tightening," Riehle says.

For the first time in more than three years, restaurant operators do not list the economy as their top challenge, Riehle adds. Now food costs are tops on their list of concerns followed by the economy. "This does reflect an important shift as to what they view as important challenges," he adds.

Through the first quarter of 2011, food prices increased 6.7 percent compared to last year, according to Riehle. Exactly how much pressure this puts on operator margins depends largely on menu composition. For example, the cost of fresh vegetables is up 21 percent and beef is up 19 percent, he adds. In contrast, dairy is up only 11 percent but butter prices increased by 43 percent. So pricing is all over the place, which explains why it occupies so much of operators' thoughts.

The one thing operators seem to have going for them is that this is not the first time in recent history that they have had to deal with these kinds of challenges. Riehle points out that from 2007 to 2008, the industry experienced annualized wholesale food price increases of eight percent. Hopefully, they learned a little something from that experience.

"Managing the input costs for food and beverage has become paramount," Riehle says. "Plus, the operator can't pass that along to the consumers on a one to one basis. This year you have seen more mentions of operators taking menu price increases of one percent to three percent, according to the general press. But compared to what's going on with the wholesale food prices it does not match up. So there is more emphasis on operating more efficiently."

Unfortunately for foodservice operators, rising food prices are a double-edged sword. It not only impacts restaurant operating costs, it also affects how much disposable income consumers have. "Higher grocery prices are likely to negatively impact restaurants because customers will have less cash on hand," says Darren Tristano, executive vice president at Technomic, a Chicago-based market research firm. "This will lead to more trading down, less frequency [of dining out] and less expensive items being ordered. Things like desserts, appetizers and adult beverages will decrease in sales."

Because the industry is not really growing at a fast pace, many operator companies are turning toward acquisitions or even initial public offerings as ways to gobble up market share from their competitors and inject some cash into their businesses. Some high profile examples of these are Dunkin' Brands announcement of an IPO last month and Tilman Fertitta and Landry's Restaurants' pursuit of McCormick and Schmick's. "We will see more of this type of activity because more companies are struggling to be bought," Tristano adds. "Some companies will definitely have to take matters into their own hands in order to fuel their growth. We may never see the level of growth from five years ago. And it will be awhile before we stop seeing one chain trying to take share from another."

While many projections call for the foodservice industry to experience real growth this year, it is important to remember that represents an aggregate number extrapolated across many segments. "It's kind of a mixed basket where some segments are up significantly and others are down significantly," Tristano says. And the same applies to the individual companies that comprise these categories. "Some categories tend to be the growth leaders while the others are actually losing ground. There are so many mixed results. You have to look at the numbers more analytically than before because on the surface the results can be somewhat deceiving."

While these challenges remain formidable, there are a few bright spots on the horizon. "This being the fourth year of this economic slowdown, there is substantial pent up demand for restaurants among consumers," Riehle says. "Two out of five adults report they are not using restaurants as much as they would like. So because there is so much pent up demand, even in a cash constricted environment, restaurants come out ahead of some other segments [of the economy]."

Adds Tristano, "Tourism has improved and that could be helpful in terms of growing the demand for restaurants."

The fact that the foodservice segment in general, and the restaurant segment in particular, remains an occasion-driven buy for most consumers will also help the industry weather some of these challenges. "Gas and grocery price increases are more obvious to consumers these days. You can't help but see them," Tristano says. "The good news is restaurant meal prices are not as top of mind for consumers."